The government is failing at the limits of monetary policy

Michael Pascoe

Here’s what the Reserve Bank has effectively told us: given the balancing act of stimulating the economy with low interest rates on one hand while keeping some ammunition dry and not sparking dangerous bubbles on the other, unemployment stuck around 6.25 per cent for the next couple of years is acceptable.

Governor Stevens told the House of Representatives economics committee the economic growth outlook for the next couple of years is a little weaker in the near term than he would like, but it’s still “kind of OK”.

It follows that unemployment around 6.25 per cent is also “kind of OK”. Stevens is a decent person and certainly wouldn’t like the 6.25 per cent, wouldn’t wish its implications on his fellow citizens, but in terms of what he can and can’t responsibly do with the cash rate, it’s not unacceptable.

So barring major economic shocks of one kind or another, monetary policy isn’t moving. It’s reached its non-crisis limits. (You really shouldn’t wish for lower rates now as that would only happen if the economy substantially worsens.)

Which should leave us wondering what could/should be done on the fiscal side, whether that federal government also thinks unemployment somewhere in the mid-6s is “kind of OK”.

It turns out that the RBA deputy governor has an answer that can’t be found in the incoherent remains of Joe Hockey’s first budget.

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The Senate circus means there’s not an immediate fiscal contraction and, on a short-term basis, that’s kind of OK.

Despite all the rhetoric, the coalition’s occupation of the treasury benches has meant increased spending and reduced taxes for the last and present financial years. The supposedly evil debt has been increased by policy and accident. (I think it’s fair to call the Senate an accident.)

Unfortunately, the spending has been without structure, adding nothing to the preconditions for a better Australia and precious little to business investment confidence.

And then there’s the big fib about an area where the federal government really could help the nation: the “Infrastructure Prime Minister”.

The budget papers show less money is being spent on transport and communications this financial than last. According to the Grattan Institute, commonwealth spending on all transport forms, even the touted roads, will fall in real terms over the forward estimates.

Maybe RBA deputy governor, Phil Lowe, had that among the material at the back of his considerable mind when he made the most valuable contribution to today’s House of Representatives hearings.

He was introduced by his boss as having “very strong views” on what’s needed to get Australia going, on our reticent “animal spirits”. On a Reserve Bank scale of emotion, it was nearly a cry from the heart:

“At the end of the day, monetary policy can’t be the engine of growth in the economy. We can help smooth out the fluctuations, we can’t in the end drive the overall growth in the economy.

“It’s clearly structural issues that do that… Australia is going to be a high wages, high-productivity, high-value added economy – that’s where we want to be, that’s where we could be, that’s where we should be. If we’re going to find ourselves in that position and sustain ourselves there, then people need to be able to take risks, they need to be able to be rewarded for risks and we need to innovate to find new ways of doing things better.

“So I think it’s somehow enlivening the entrepreneurial and risk-taking culture, innovation culture, so that we can be the type of country that has high value-added, high wages and high productivity. I think culture’s important .

“In my perspective, I think our society is becoming too risk adverse, the way we think about risk has got distorted and we’re not paying enough attention to returns and we’re paying too much attention to risk.

“I think if we invest more and more effectively in education, in human capital accumulation and infrastructure, so it’s risk taking, education, infrastructure, they’re the things that are going to help us be a high wage, high productivity, high value added economy.

“But the details here aren’t things the central bank are expert in, but they’re the ingredients to be a successful economy in the next 20 years.”

It looks like the federal government isn’t expert in those details either.

There’s a decrease in real spending on infrastructure, back-tracking from the previous government’s increase in education spending, proposed changes of highly dubious merit at the tertiary education level and no indication of a concerted effort to improve our human capital.

Cutting penalty rates isn’t the core to where the nation’s high wages, high productivity, high value-added future lies.

PS Governor Stevens confirmed that the de facto easing of monetary policy proceeds apace, suggesting that banks have cut rates by about 15 points since the last RBA cash rate moves. That’s a further 5 points from my June measure.